Questions and Answers of Foundations Of Financial Management 17th

28. The McGee Corporation finds it is necessary to determine its marginal cost of capital. McGee’s current capital structure calls for 40 percent debt, 5 percent preferred stock, and 55 percent
27. The Evans Corporation finds it is necessary to determine its marginal cost of capital. Evans’s current capital structure calls for 45 percent debt, 15 percent preferred stock, and 40 percent
26. Eaton International Corporation has the following capital structure:a. If the firm has $19.5 million in retained earnings, at what size capital structure will the firm run out of retained
25. First Tennesse Utility Company faces increasing needs for capital. Fortunately, it has an Aa2 credit rating. The corporate tax rate is 36 percent. First Tennessee’s treasurer is trying to
24. McNabb Construction Company is trying to calculate its cost of capital for use in making a capital budgeting decision. Mr. Reid, the vice president of finance, has given you the following
23. Carr Auto Parts is trying to calculate its cost of capital for use in a capital budgeting decision. Mr. Horn, the vice president of finance, has given you the following information and has asked
22. Given the following information, calculate the weighted average cost of capital for Digital Processing, Inc. Line up the calculations in the order shown in Table 11-1 on page 332. Percent of
21. Given the following information, calculate the weighted average cost of capital for Hamilton Corp. Line up the calculations in the order shown in Table 11-1 on page 332. Percent of capital
20. Mary Ott Hotels wants to determine the minimum cost of capital point for the firm. Assume it is considering the following financial plans:a. Which of the four plans has the lowest weighted
19. As an alternative to the capital structure shown in problem 18 for Global Tech- Weighted average nology, an outside consultant has suggested the following modifications.Debt
18. Global Technology’s capital structure is as follows:Debt ................................................ 35%Preferred stock................................ 15 Common equity
17. Business has been good for Keystone Control Systems, as indicated by the fouryear growth in earnings per share. The earnings have grown from $1.00 to $1.63.a. Use Appendix A at the back of the
16. Compute Kg and Kn under the following circumstances:a. Dj = $4.20, P0 = $55, g = 5%, F = $3.80.b. D1 = $0.40, P0 = $15, g = 8%, F = $1.c. E| (earnings at the end of period one) = $8, payout ratio
15. Murray Motor Company wants you to calculate its cost of common stock. During the next 12 months, the company expects to pay dividends (Dj) of $2.50 per share, and the current price of its common
14. The treasurer of BioScience, Inc., is asked to compute the cost of fixed income securities for her corporation. Even before making the calculations, she assumes the aftertax cost of debt is at
13. Wallace Container Company issued $100 par value preferred stock 12 years ago.The stock provided a 9 percent yield at the time of issue. The preferred stock is now selling for $72. What is the
12. Burger Queen can sell preferred stock for $70 with an estimated flotation cost of$2.50. It is anticipated the preferred stock will pay $6 per share in dividends.a. Compute the cost of preferred
11. McDonald’s Corporation is planning to issue debt that will mature in 2028. In many respects the issue is similar to currently outstanding debt of the corporation.Using Table 11-2 on page 334 of
10. For Hewlett Software Corporation described in problem 9, assume that the yield on the bonds goes up by 1 percentage point and that the tax rate is now 45 percent.a. What is the new aftertax cost
9. Hewlett Software Corporation has a $1,000 par value bond outstanding with 20 years to maturity. The bond carries an annual interest payment of $110 and is currently selling for $1,080 per bond.
8. Addison Glass Company has a $1,000 par value bond outstanding with 25 years to maturity. The bond carries an annual interest payment of $88 and is currently selling for $925. Addison is in a 25
7. Useless Tool Co. has an aftertax cost of debt of 6 percent. With a tax rate of 33 percent, what can you assume the yield on the debt is?
6. The Millennium Charitable Foundation, which is tax-exempt, issued debt last year at 8 percent to help finance a new playground facility in Chicago. This year the cost of debt is 15 percent higher;
5. Calculate the aftertax cost of debt under each of the following conditions.Yield Corporate Tax Ratea. 9.0% 25%b. 10.6 35c. 8.5 0
4. Calculate the aftertax cost of debt under each of the following conditions.Yield Corporate Tax Ratea. 8.0% 18%b. 12.0% 34%c. 10.6% 15%
3. Sullivan Cement Company can issue debt yielding 13 percent. The company is paying a 36 percent tax rate. What is the aftertax cost of debt?
2. Royal Petroleum Co. can buy a piece of equipment that is anticipated to provide a 9 percent return and can be financed at 6 percent with debt. Later in the year the firm turns down an opportunity
1. Rambo Exterminator Company bought a “Bug Eradicator” in April of 2008 that provided a return of 7 percent. It was financed by debt costing 6 percent.In August, Mr. Rambo came up with an
2.a. Assume the following capital structure for the Morgan Corp.Debt .............................. 35%Preferred stock.............. 15%Common equity ............ 50%The following facts are also
1.a. A $ 1,000 par value bond issued by Conseco Electronics has 16 years to maturity. The bond pays $78 a year in interest and is selling for $880. What is the approximate yield to maturity?b. If the
13. What is the concept of marginal cost of capital? (L05)
12. What effect would inflation have on a company’s cost of capital? {Hint: Think about how inflation influences interest rates, stock prices, corporate profits, and growth.) (L03)
11. It has often been said that if the company can’t earn a rate of return greater than the cost of capital it should not make investments. Explain. (L02)
10. Explain the traditional, U-shaped approach to the cost of capital. (L04)
9. How are the weights determined to arrive at the optimal weighted average cost of capital? (L04)
8. Why is the cost of issuing new common stock (Kn) higher than the cost of retained earnings (KJ? (L03)
7. Why is the cost of retained earnings the equivalent of the firm’s own required rate of return on common stock (KJ? (L03)
6. Explain why retained earnings have an associated opportunity cost. (L03)
5. What are the two sources of equity (ownership) capital for the firm? (L03)
4. Why is the cost of debt less than the cost of preferred stock if both securities are priced to yield 10 percent in the market? (L03)
3. In computing the cost of capital, do we use the historical costs of existing debt and equity or the current costs as determined in the market? Why? (L03)
2. How does the cost of a source of capital relate to the valuation concepts presented previously in Chapter 10? (L03)
1. Why do we use the overall cost of capital for investment decisions even when only one source of capital will be used (e.g., debt)? (LOl)
8. Surgical Supplies Corporation paid a dividend of $1.12 over the last 12 months. The dividend is expected to grow at a rate of 25 percent over the next three years (supernormal growth). It will
7. The equation for the valuation of a supernormal growth firm is:The formula is not difficult to use. The first term calls for determining the present value of the dividends during the supernormal
6. Bonds issued by the Medford Corporation have a par value of $1,000, are selling for $865, and have 25 years to maturity. The annual interest payment is 8 percent.Find yield to maturity by
5. We will use a numerical example to demonstrate this process. Assume a 20-year bond pays $118 per year (11.8 percent) in interest and $1,000 after 20 years in principal repayment. The current price
4. Scroll down and click on “Analysts Opinion.” What is the Mean Target, the High Target, and the Low Target? How many brokers follow the firm?Bank of America was referred to at the beginning of
3. What is its 52-week range?Bank of America was referred to at the beginning of the chapter as a firm that had a low valuation in the marketplace. Go to finance.yahoo.com and type BAC into the
2. Go back to the home page. Is the stock up or down from the prior day? (See“change” on the home page.)Bank of America was referred to at the beginning of the chapter as a firm that had a low
1. Are Wells Fargo’s ratios higher or lower than Bank of America’s?Bank of America was referred to at the beginning of the chapter as a firm that had a low valuation in the marketplace. Go to
35. Mel Thomas, the chief financial officer of Preston Resources, has been asked to do an evaluation of Dunning Chemical Company by the president and Chair of the Board, Sarah Reynolds. Preston
34. Trump Office Supplies paid a $3 dividend last year. The dividend is expected to grow at a constant rate of 7 percent over the next four years. The required rate of return is 14 percent (this will
33. Cellular Systems paid a $3 dividend last year. The dividend is expected to grow at a constant rate of 5 percent over the next two years. The required rate of return is 12 percent (this will also
32. A firm pays a $1.90 dividend at the end of year one (D,), has a stock price of $40(P0), and a constant growth rate (g) of 8 percent.a. Compute the required rate of return (Kg). Also indicate
31. A firm pays a $4.90 dividend at the end of year one (Dj), has a stock price of$70, and a constant growth rate (g) of 6 percent. Compute the required rate of return.
30. Haltom Enterprises has had the following pattern of earnings per share over the last five years:The earnings per share have grown at a constant rate (on a rounded basis) and will continue to do
29. Maxwell Communications paid a dividend of $3 last year. Over the next 12 months, the dividend is expected to grow at 8 percent, which is the constant growth rate for the firm (g). The new
28. Friedman Steel Company will pay a dividend of $1.50 per share in the next 12 months (Dj). The required rate of return (Ke) is 10 percent and the constant growth rate is 5 percent.a. Compute
27. BioScience, Inc., will pay a common stock dividend of $3.20 at the end of the year (Dj). The required return on common stock (Kg) is 14 percent. The firm has a constant growth rate (g) of 9
26. Static Electric Co. currently pays a $2.10 annual cash dividend (D0). It plans to maintain the dividend at this level for the foreseeable future as no future growth is anticipated. If the
25 ề Analogue Technology has preferred stock outstanding that pays a $9 annual dividend. It has a price of $76. What is the required rate of return (yield) on the preferred stock?
24. Venus Sportswear Corporation has preferred stock outstanding that pays an annual dividend of $12. It has a price of $110. What is the required rate of return(yield) on the preferred stock?
23. North Pole Cruise Lines issued preferred stock many years ago. It carries a fixed dividend of $6 per share. With the passage of time, yields have soared from the original 6 percent to 14 percent
22. The preferred stock of Ultra Corporation pays an annual dividend of $6.30. It has a required rate of return of 9 percent. Compute the price of the preferred stock.
21. You are called in as a financial analyst to appraise the bonds of the Holtz Corporation.The $1,000 par value bonds have a quoted annual interest rate of 14 percent, which is paid semiannually.
20. Robert Brown III is considering a bond investment in Southwest Technology Company. The $1,000 bonds have a quoted annual interest rate of 8 percent and the interest is paid semiannually. The
19. Optional: For problem 18, use the techniques in Appendix 10A to combine a trial and error approach with interpolation to find a more exact answer. You may choose to use a handheld calculator
18. Bonds issued by the West Motel Chain have a par value of $1,000, are selling for$1,100, and have 20 years remaining to maturity. The annual interest payment is 13.5 percent ($135). Compute the
17. Bonds issued by the Crane Optical Company have a par value of $1,000, which is also the amount of principal to be paid at maturity. The bonds are currently selling for $850. They have 10 years
16. Lance Whittingham IV specializes in buying deep discount bonds. These represent bonds that are trading at well below par value. He has his eye on a bond issued by the Leisure Time Corporation.
15. Wilson Oil Company issued bonds five years ago at $1,000 per bond. These bonds had a 25-year life when issued and the annual interest payment was then 8 percent. This return was in line with the
14. Good News Razor Co. issued bonds 10 years ago at $1,000 per bond. These bonds had a 40-year life when issued and the annual interest payment was then 12 percent. This return was in line with the
13. Further analysis of problem 12:a. Find the present value of 2 percent X $ 1,000 (or $20) for 20 years at 10 percent.The $20 is assumed to be an annual payment.b. Add this value to $ 1,000.c.
12. Tom Cruise Lines, Inc., issued bonds five years ago at $1,000 per bond. These bonds had a 25-year life when issued and the annual interest payment was then 12 percent. This return was in line
11. Jim Busby calls his broker to inquire about purchasing a bond of Disk Storage Systems. His broker quotes a price of $1,180. Jim is concerned that the bond might be overpriced based on the facts
10. Using Table 10-2 on page 292:a. Assume the interest rate in the market (yield to maturity) goes down to 8 percent for the 10 percent bonds. Using column 2, indicate what the bond price will be
9. Using Table 10-2 on page 292 for a bond that matures in 20 years, assume interest rates in the market (yield to maturity) go from 8 percent to 12 percent.a. What is the bond price at 8 percent?b.
8. Go to Table 10-1 on page 291 which is based on bonds paying 10 percent interest for 20 years. Assume interest rates in the market (yield to maturity) decline from 11 percent to 8 percent:a. What
7. For problem 6 graph the relationship in a manner similar to the bottom half of Figure 10-2 on page 293. Also explain why the pattern of price change occurs.
6. Kilgore Natural Gas has a $1,000 par value bond outstanding that pays 9 percent annual interest. The current yield to maturity on such bonds in the market is 12 percent. Compute the price of the
5. Harrison Ford Auto Company has a $1,000 par value bond outstanding that pays 11 percent interest. The current yield to maturity on each bond in the market is 8 percent. Compute the price of these
4. Referring back to problem 3, partb, what percent of the total bond value does the repayment of principal represent?
3. Exodus Limousine Company has $1,000 par value bonds outstanding at 10 percent interest. The bonds will mature in 50 years. Compute the current price of the bonds if the percent yield to maturity
2. Midland Oil has $1,000 par value bonds outstanding at 8 percent interest. The bonds will mature in 25 years. Compute the current price of the bonds if the present yield to maturity is:a. 7
1. Burns Fire and Casualty Company has $1,000 par value bonds outstanding at 11 percent interest. The bonds will mature in 20 years. Compute the current price of the bonds if the present yield to
2. Host Corp. will pay a $2.40 dividend (D) in the next 12 months. The required rate of return (Ke) is 13 percent and the constant growth rate (g) is 5 percent.a. Compute the stock price (Po).b. If
1. The Titan Corp. issued a $1,000 par value bond paying 8 percent interest with 15 years to maturity. Assume the current yield to maturity on such bonds is 10 per- cent. What is the price of the
13. What approaches can be taken in valuing a firm’s stock when there is no cash dividend payment? (L05)
12. How is the supernormal growth pattern likely to vary from the normal, constant growth pattern? (L05)
11. What factors might influence a firm’s price-earnings ratio? (L03)
10. What two components make up the required rate of return on common stock?(LOS)
9. What two conditions must be met to go from Formula 10-8 to Formula 10-9 in using the dividend valuation model? (L05) D Po (10-9) Ke-g
8. What type of dividend pattern for common stock is similar to the dividend payment for preferred stock? (LOl)
7. Why is a change in required yield for preferred stock likely to have a greater impact on price than a change in required yield for bonds? (L04)
6. What are the three adjustments that have to be made in going from annual to semiannual bond analysis? (L04)
5. Why is the remaining time to maturity an important factor in evaluating the impact of a change in yield to maturity on bond prices? (L04)
4. If inflationary expectations increase, what is likely to happen to the yield to maturity on bonds in the marketplace? What is also likely to happen to the price of bonds? (L02)
3. What are the three factors that influence the required rate of return by investors?(L02)
2. Why might investors demand a lower rate of return for an investment in ExxonMobil as compared to United Airlines? (L02)

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